Are your funds safe with your custodian?

A custodian maintains custody of your funds.  When you open an account at a bank, brokerage house, or hedge fund, at some point you transfer assets to the institution who holds them for you in your name (Your account name).  If funds are not on your person in cash or on your property, they are usually kept with some institution.  This could be a bank, broker dealer, hedge fund, futures broker, credit union, or an individual known as a ‘fiduciary’ who usually is licensed to hold funds.  In an electronic world this is mostly cash and cash equivalents, stocks, bonds and other instruments.  But our regulations and laws were written before computers existed.  As one interesting example, it used to be possible to open an account at a commodity brokerage with land or a herd of cattle.  The FCM would create a cash margin account for you with the cattle held as collateral (which made sense for farmers who needed to hedge their business by trading futures contracts).

While financial institutions are generally heavily regulated, you no longer own your funds when held at a custodian.  A deposit is not considered bailment, meaning when you deposit money in a bank you are transferring ownership to the bank and your account statement is effectively an IOU.

A deposit, by legal definition, is not considered a bailment, but even if there was a question involved, all contracts with all commercial banks explicitly state that deposits of funds are a full title transfer of ownership to the financial institution. The fact that funds can be ‘repaid’ to you ‘on demand’ is incidental. When you make any bank deposit, you are giving up title to your funds to the bank, and the bank does not have to store them, and may do with those funds as it pleases. Your funds become the immediate property of the bank, in return for what is essentially an IOU.

Under normal conditions, technicalities such as this are irrelevant.  But in the case of institutional default or fraud, they can mean the difference between getting your funds back, or not.

We’ve seen due to the financial crisis situations like PFG, MF Global, and Bernie Madoff, where investors were subject to their custodian default in varying ways.  Banks have been considered to be historically speaking the safest of any type of financial institution mostly because of FDIC protection (and similar protection in other countries) and their regulation.  But we’ve seen bank failures since the crisis started.  More importantly, we’ve seen banks in Cyprus have their deposits wiped out to ‘shore up’ bank balance sheets.  Now, the bail-in policy is a template that could happen anywhere, in the US, the EU, and even New Zealand has proposed similar solutions for bad banks.  Now there is talk of potential IRA confiscation, based on rumor, but also chilling requests for information such as the US Department of Labor’s “Fact Sheet – Lifetime Income Options for Retirement Plans.”  See what CFTC disclosures are now required to be included in CTA/CPO disclosure documents:

IF THE COUNTERPARTY BECOMES INSOLVENT AND YOU HAVE A CLAIM FOR AMOUNTS DEPOSITED OR PROFITS EARNED ON TRANSACTIONS WITH THE COUNTERPARTY, YOUR CLAIM MAY NOT BE TREATED AS A COMMODITY CUSTOMER CLAIM FOR PURPOSES OF SUBCHAPTER IV OF CHAPTER 7 OF THE BANKRUPTCY CODE AND REGULATIONS THEREUNDER. YOU MAY BE A GENERAL CREDITOR AND YOUR CLAIM MAY BE PAID, ALONG WITH THE CLAIMS OF OTHER GENERAL CREDITORS, FROM ANY MONIES STILL AVAILABLE AFTER PRIORITY CLAIMS ARE PAID. EVEN FUNDS THAT THE COUNTERPARTY KEEPS SEPARATE FROM ITS OWN FUNDS MAY NOT BE SAFE FROM THE CLAIMS OF PRIORITY AND OTHER GENERAL CREDITORS.

That means if you have an account at an FDM (Forex Dealer Member) and they become insolvent, creditors may be paid before account holders if a judge deems them as ‘priority.’

So what is the solution?

For many it’s not possible or they are not willing to convert all of their assets into physical assets (even including cash) to keep on their property, and those not in financial services are not sophisticated enough to open their own private bank (which is what the elite do).

Solutions have been presented such as by finding AAA+ rated banks and credit unions, looking at their balance sheets to determine the possibility of failure.  This is a very prudent practice, however, it doesn’t guarantee that bank won’t be seized by the government, bought by a bigger bank, or is managed by a lone fraudster who just got hired recently to improve profits.  Before it’s collapse, PFG was considered to be one of the most honest and credible futures brokers in the industry.  Russ Wasendorf, Sr. would speak about the importance of compliance at industry events, and was on the advisory committee of the NFA.

Actually it’s possible to insure your deposit externally by use of derivatives (Buy CDS on your institution), or by non-cash funding of an account by use of letter of credit or bank guarantee.  But the minimum transaction for these options is millions if not tens of millions.

Questions to ask about the institution where your funds are held

  • What is the legal system in the jurisdiction where the institution is registered?
  • Who are the owners of the institution?
  • What is the background of the management of the institution?
  • Are there any damaging reports or rumors circulating about the institution or it’s managers (Google “REPLACE THIS TEXT WITH MY INSTITUTION fraud”) – Years before Madoff was uncovered a lone analyst Harry Markopolos published documents proving mathematically that Madoff was running a Ponzi scheme.
  • If a bank, what is the leverage of the institution (loan to asset ratio)?
  • If regulated, are there any past complaints, fines, or other marks against the institution or it’s managers?
  • If available, what are CDS trading at and what are the spreads?  (CDS indicate chances of default)

Due diligence techniques

DO NOT directly ask questions like this to your institution, it’s a waste of time and has no real information value.

Google is a great tool, you can combine your institution name with ‘fraud’ or ‘default’ or ‘bankrupt’ or other terms to see if there is anything returning in search results.  If you don’t find anything it’s not proof of that there’s nothing to find, as it’s unlikely such information would be found on the public web but it does happen.

Forums and review sites are great ways to engage other concerned customers and read any complaints, if any.

Ask an independent financial adviser to do due diligence for you.  With connections inside financial services they may have contacts or other means to collect info not available to the public.

Remember, each type of institution will have a different regulatory structure, which is also different in each jurisdiction.  For example hedge funds, although regulated, have reporting requirements in the US but are not required to publish statistics about data such as Assets Under Management and other key data.

Global Intel Hub Due Diligence Services

MEMBER OFFER – Structured Consulting can provide professional due diligence & research services about your institution(s) Please contact SC for more info.  Members of Global Intel Hub can also suggest a topic for research that will be published for all members.

Resources

The FDIC failed bank list: http://www.fdic.gov/bank/individual/failed/banklist.html

Likely to fail resources

http://www.businessinsider.com/25-banks-default-2010-5?op=1

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Related

We've been closely watching the Crypto Currency Market if you can call it that, with all the fake data, fraud, and related problems.  One thing stands out - it's not so different than FX, commodities, futures, or stocks.  Market dyn...

Bitcoin and other cryptocurrencies flash-crashed Saturday night, one day after the US Commodity Future Trading Commission (CFTC) sent subpoenas four cryptocurrency exchanges in an ongoing probe into bitcoin manipulation that began in late July - following the launch of bitcoin futures on the CME, according to the Wall Street Journal
CME’s bitcoin futures derive their final value from prices at four bitcoin exchangesBitstamp, Coinbase, itBit and KrakenManipulative trading in those markets could skew the price of bitcoin futures that the government directly regulates.
In delay reaction, Bitcoin fell as much as $433 or 5.6% in Saturday night trading, with some noting that the flash crash happened shortly after a 90th ranked crypto exchange, Coinrail, had suffered a "cyber intrusion", and was likely the more relevant catalyst for the crypto price drop.
While major Cryptocurrencies were down from 4.5 - 5.5%, Bitcoin Cash dropped over 8.4%. 
The CTFC subpoenas were issued after several of the exchanges refused to voluntarily share trading data with the CME after being asked last December. Of note, the CFTC regulates the CTC. 
According to the WSJ, the CME, which launched bitcoin futures in December, asked the four exchanges to share reams of trading data after its first contract settled in January, people familiar with the matter said. But several of the exchanges declined to comply, arguing the request was intrusive. The exchanges ultimately provided some data, but only after CME limited its request to a few hours of activity, instead of a full day, and restricted to a few market participants, the people added.
What is curious, is that if there was indeed manipulation since the launch of bitcoin futures, it was to the downside, as the price of cryptos peaked around the time the crypto futures were launched, and are down well over 50% in the 6 months since.
Coinbase in particular has been under the watch government regulators. On February 23, Coinbase sent an official notice to around 13,000 customers to notify them they were legally required to turn over their information to the IRS
The IRS had initially asked Coinbase in July 2017 to hand over even more detailed information on every one of its then over 500,000 users in an attempt catch those cheating on their taxes. However, another court order in Nov. 2017 reduced this number to around 14,000 “high-transacting” users, which the platform now reports as 13,000, in what Coinbase calls a “partial, but still significant, victory for Coinbase and its customers.”
Coinbase told the around 13,000 affected customers that the company would be providing their taxpayer ID, name, birth date, address, and historical transaction records from 2013-2015 to the IRS within 21 days. Coinbase’s letter to these customers encourages them “to seek legal advice from an attorney promptly” if they have any questions. Their website also states that concerns may also be addressed on Coinbase’s Taxes FAQ. The ongoing legal battle between Coinbase and the US government dates back to November, 2016, when the IRS filed a “John Doe summons” in the United States District Court for the Northern District of California.
On Feb. 13, personal finance service Credit Karma released data showing that only 0.04 percent of their customers had reported cryptocurrencies on their federal tax returns. 
And in April, former New York Attorney General, Eric "we could rarely have sex without him beating me" Schneiderman, launched a probe of 13 major cryptocurrency exchanges according to the Wall Street Journal - claiming that investors dealing in the fast-growing markets often don’t have the basic facts needed to protect themselves.
Former AG Schneiderman’s office said the program, called Virtual Markets Integrity Initiative,  is part of its responsibility to protect consumers and ensure the integrity of financial markets, and its goal is to ensure that investors can have a better understanding of the risks and protections afforded them on these sites.
CFTC Commissioner: Crypto is a "modern miracle"
While the CFTC, IRS and New York Attorney General's office are all cracking down on cryptocurrency exchanges, it seems to all be part of the government's embrace of virtual currencies.  Last week CFTC Commissioner Rostin Benham called cryptocurrencies a "modern miracleat the Blockchain For Impact Summit held at the UN in New York last week. 
But virtual currencies may – will – become part of the economic practices of any country, anywhere.  Let me repeat that:  these currencies are not going away and they will proliferate to every economy and every part of the planet.  Some places, small economies, may become dependent on virtual assets for survival.  And, these currencies will be outside traditional monetary intermediaries, like government, banks, investors, ministries, or international organizations.
We are witnessing a technological revolution.  Perhaps we are witnessing a modern miracle. -Rostin Benham
Rostin hinted at the upcoming legal action against the exchanges during his speech:
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Meanwhile, the official Bitcoin website removed references to Coinbase, Blockchain.com and Bitpay, according to Crypto News - only one of which, Coinbase, was subpoenaed. 
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The CFTC officially recognized bitcoin as a commodity in September of 2015 when it went after Coinflip for operating a platform for trading bitcoin options without the proper authorization. Since the agency effectively asserted its dominance over the bitcoin market with that decision, this is the first time it has given its blessing to an bitcoin options trading platform. Expect a burst of institutional trading activity to follow - especially since they approved institutional options trading in July
This post sponsored by Total Cryptos @ www.totalcryptos.com  

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